When thinking about exits, it can be quite an overwhelming topic to get your head around.
When is the right time to exit? How will dilution impact my investment over time? How do I even exit from an investment?
All these questions seem daunting at first but luckily they don’t have to be!
Joe Kinvi, who is a FinTech expert, Founder and an Angel Investor will break it down for us here at the Angel Investing School.
Here is what Joe Kinvi at the HoaQ Fund had to say about exits:
“Exits are a critical aspect of investing. When you make an investment, it is essential to consider your exit strategy.
This strategy outlines how and when you will sell your investment to maximize your returns. Exiting an investment can be a simple process, especially when you own shares in a publicly listed company. However, it can be complex when you invest in startups.
When exiting a publicly listed investment, you simply log into your trading platform and sell your shares. This process is usually straightforward because there is always someone or an institution ready to buy them.
Exits in startups are not that straightforward.
This is because the shares in most startups are not liquid. In most cases, your investment is a SAFE or an ASA, meaning that you don’t own any shares in the company until the SAFE or the ASA is converted into real shares. These are often called priced rounds (a price per share has been decided upon).
So when should you exit your investment?
Well, you can’t technically exit a SAFE (Simple Agreement For Future Equity) because they are not shares unless the company decides to terminate the SAFE agreement. I’ve seen this scenario play out when the company pays the SAFE investor back. From an accounting perspective, because the safe is recorded as a liability on the balance sheet, the payout, if more than the initial value is recorded as the liability repayment plus interest (too much info I know 😅).
With this in mind, you can exit a company in a couple of scenarios:
- The company has been acquired. The acquirer pays investors back in cash, shares or both.
- The company goes public (we haven’t seen this in a while). Then you can sell your shares in the company on the public market
Because IPOs or acquisitions don’t happen quite regularly, what typically happens is companies raise multiple rounds from pre-seed to series X before they go public. This can happen over an extended period of time (10 years +). Side note: funds have a 10-year lifecycle because of this.
So if you invested at the pre-seed or seed stage of a company, do you have to wait until they reach a series X before exiting as an angel?
Not quite. And you shouldn’t definitely wait that long because dilution would make your stake worthless over time.
I understand that it may take some time to get to the answer, but context really matters. One piece of advice I received and found practical is not to stay in a company as an angel investor for more than three rounds. This means that if you invested at the pre-seed stage, you ideally want to exit at Series B, if not even earlier at Series A. At this stage of the company, there are larger institutions who can afford to buy you out because they have ownership targets to meet, and the company is most likely at a completely different stage than when you initially invested. Additionally, as an angel investor, your value add is less significant to the company post-Series A. While you can stay on the cap table, your contribution as an angel investor is relatively minuscule, and you may want to take your money out and put it to work somewhere else. The common term used for transactions like this is called selling via secondaries.
There are also a couple of platforms such as Seeders and Crowdcube where you can sell your secondaries but you have to have invested through them. Not ideal.
To recap, you want to exit a startup as an angel after 2 to 3 rounds of funding and the liquidity option is available.
How about the numbers?
Let’s take a look at a practical example:
Let’s say you invested $10,000 in a company at a $5M valuation post-money at pre-seed and that company raises their seed at $20M (10% dilution) and series A at $50M (20% dilution, no ESOP).
At 20M, your stake is worth 3.6x.
At 50M, your stake is worth 7.2x
So your 10K is now worth 72K (not 100K) when the company raises at $50M series A.
Super successful companies can achieve this in between 3-4 years. If this happens in 4 years, that’s around 150% return per annum. Quite impressive. If you stay in longer, the percentage growth will slow down and you’d end up being diluted over time. Does it make sense to get your money out and invest it in new investments?
I think so but as you already know, I don’t give investment advice.”